There are several different share classes of mutual funds. Most investors are familiar with A Shares, B Shares, and C Shares. Institutional funds are classified as I shares, X shares, Y shares, or Z shares. The primary difference between institutional funds and other mutual funds classes is that the expenses are lower, and the minimum initial investment requirements are higher.
How Inst Funds Work
Institutional mutual funds can be purchased by more than just institutions. Certain individual investors may purchase these funds. In some cases, a Registered Investment Advisor (individual or firm) may have access to lower-cost shares and purchase them for their clients. Here are the primary types of investors that can buy institutional funds:
Institutions: Typical institutions include pension plans, 401(k) plans, hedge funds, endowments, and insurance companies.High net worth individuals: Since the initial investment for institutional funds can range from $25,000 to as much as $5 million or more, only those individuals with high account balances can afford to purchase institutional funds.401(k) plan participants: Since a 401(k) plan can often qualify to buy institutional funds, an individual investor participating in their employer’s 401(k) may buy shares, regardless of the minimum initial investment.
Benefits of Inst Funds
In general, institutional class mutual funds can be superior to other share classes, because the lower expense ratios typically translate into higher returns for the investors. That is because the fund is not withholding as much money to pay the operating costs of the mutual fund. For example, one mutual fund might have several different share classes available to investors. The ones with lower expenses will have a higher long-term performance. Suppose the B share version of a particular mutual fund has an expense ratio of 1%, but the Class I institutional share class has an expense ratio of 0.25%. If the fund has a 10% total gain in any given year, the net return to B share investor would be 9% (10%-1%), whereas the return for the I share investor would be 9.75% (10%-0.25%). Over time, this extra 0.75% advantage can mean thousands of dollars more to the investor.
Types of Inst Funds
With the exception of employer-sponsored retirement plans like a 401(k), it’s uncommon for an individual investor to gain access to institutional share funds. However, there are plenty of high quality, low-cost funds for investors to choose from:
No-load funds: Also known as “investor share” funds, no-load funds do not always have a formal share class title. A load is a fee charged when you make a transaction. No-load funds don’t have transaction fees, but you will pay other fees to the fund’s investment advisors. You also won’t find a letter to describe the share class, such as A, B, C, or I, at the end of the mutual fund name. Index funds: Because they are passively managed, index funds can be smart fund choices for do-it-yourself investors. Index funds are often highly diversified and typically charge lower fees than actively managed funds. Exchange-traded funds (ETFs): ETFs are mutual fund-like investments that trade like stocks. Like index funds, ETFs are passively managed and track the performance of a benchmark index. ETFs often have lower expenses than index funds and can have expenses lower than those of institutional funds.
